Starting a business is an important undertaking involving many critical decisions that will have long-term effects. The proper form can potentially minimize your liabilities, delay, or minimize your taxes, and protect your wealth. Many vehicles exist for operating a business, including sole proprietorships, joint ventures, corporations, co-operatives, and partnerships. This article will briefly review a corporation and a partnership, which are the most common vehicles.
Corporation
A common form for starting a business or holding property is a corporation. A corporation must have at least one shareholder. Shareholders are basically the owners. Those owners elect one or more directors who run the corporation. The directors may appoint executives or officers, such as a CEO, to handle the day-to-day operations of the business. The same individual can be a shareholder, director, and an officer in a corporation. Directors of a BC corporation can be a foreigner with no immigration status in Canada, but if the corporation is being managed outside of Canada, it will face different tax consequences and its ability to acquire certain property in Canada could be limited.
A corporation is a separate legal entity from its shareholders and directors. As long as people know they are dealing with a corporation, then any liabilities arising from the business are limited to the corporation, as opposed to its shareholders or directors – with some exceptions. For example, directors remain personally liable for employee wages and for remittances of GST and payroll deductions to CRA. But, despite those limited exceptions, the benefits of shielding business owners from liability of the business are broad enough to make corporations a popular form for doing business or holding property these days. In addition, incorporating can have certain tax advantages.
The Canadian tax system is designed to be integrated, meaning that whether you earn income personally or through a corporation in the same year, the payable taxes are going to be approximately the same. However, earning business income through a corporation can allow you to defer taxes in certain cases. For example, in case of a small active business (a defined term), you can defer taxes by leaving the portion of the business income that you do not need to withdraw for personal use in the corporation’s bank account, where it is subject to a lower tax rate. You will pay the approximate difference with the higher tax rate once you withdraw that business income from the corporation. Also, if your family members work on average 20 hours per week for the corporation, you might be able to split the corporate business income with them, to subject the income to lower tax brackets.
Moreover, if the shares of the corporate business qualify, you can sell the shares when you are ready to exit. Every individual is entitled to receiving more than $1m in tax free income during their lifetime from the sale of qualified shares. You may be able to multiply this tax-free income by sharing it with your relatives if you create a family trust to own the shares of the corporation, while you maintain direct control of the business.
Partnership
A partnership is not a legal entity itself. It is a relationship among legal entities, such as individuals or corporations. Forming a partnership allows you to enter into business with others in the same way that forming a corporation does with multiple shareholders. But, if you form a limited partnership, you will benefit from tax advantages that doing business through a corporation will not allow.
Doing business with others through a corporation with multiple shareholders carries the disadvantage that, if the business results in a loss, then the loss is stuck in the corporation, and cannot be used by its shareholders to reduce their own taxable income elsewhere. But, in a limited partnership, losses are divided among and flow through to the partners, who can in turn use them to reduce their own taxable income from a different source. Partnerships are generally more expensive to set up and maintain than corporations.
Doing business with others
Regardless of the form that is right for you, if you are doing business with others, you should enter into a written agreement with them on how to deal with separations. A separation can happen for many reasons. For example, the parties might not get along, or you may have a buyer for the business but only some of the parties are willing to sell, or someone dies; or someone is subject to division-of-property laws due to a divorce. Having a proper written agreement can provide a roadmap to ensure that the business can operate more smoothly in situations where the exit of a party is necessary.
About the Author
Bijan Ahmadian is a business lawyer in British Columbia with more than ten years of experience practicing in several areas, including tax, real estate, and corporate law. He is known to be the only Farsi speaking lawyer in BC with a Master of Laws in Tax. Bijan is currently Senior Counsel at Wiebe Wittmann Robertson LLP in downtown Vancouver.
Not Legal Advice
This article is intended for information only. It is not legal advice. Tax, estate planning, and corporate law are complicated matters and vary in everyone’s case. You should seek legal advice before considering taking any steps based on this article.